TRLPC: Banks heed US regulators' guidelines on leverage

NEW YORK, Sept 4 (Reuters) - Leverage on the biggest U.S. corporate buyout loans has crept above regulators’ target of six times to 6.14 times in the third quarter, but is broadly in line with guidelines for the year to date, according to Thomson Reuters LPC data. Leverage levels hit a two-year low of 5.99 times earnings before interest, tax, depreciation and amortization (Ebitda) in the first quarter of this year after regulators started to enforce leveraged lending guidelines more forcefully in late 2014. Leverage is averaging 6.03 times so far this year, after rising in the second quarter to 6.01 times, as banks take heed of regulators’ tougher line. The Federal Reserve, the Office of the Comptroller of the Currency (OCC) and the Federal Deposit Insurance Corp issued updated leveraged lending guidance in 2013 for underwriting loans that they deemed could pose a systemic threat to the financial system if unchecked. They are due to share their views of bank compliance later this fall in an annual report on the credit quality of large bank loan commitments. The US$828bn U.S. leveraged loan market extends credit to riskier, more indebted non-investment grade rated companies, including private equity buyouts. “In any given month you might see it move up or down a little bit, but everything we’re hearing from the banks we work with is that they are under intense pressure to keep leverage levels down,” said Stephen Casey, senior portfolio manager at Neuberger Berman in Chicago. Average total leverage on large buyout loans has fallen from a post crisis peak of 6.55 times last year, LPC data shows, but remains above a post crisis low of 4.82 times in 2009. Leverage hit an all-time annual high of 7.05 times at the peak of the market in 2007 before the collapse of Lehman Brothers in 2008. Banks are able to arrange some deals with leverage over regulators’ six times guidelines if they can argue that borrowers can use consistent cash streams to repay debt. “You’ll see a deal here or there that is a bit higher than the much talked about 6 times leverage,” Casey said. “But the market continues to be very, very disciplined, and leverage has been staying at more subdued levels than you would have expected at this point in the cycle.” A handful of new deals in the third quarter with leverage of 7 times or more, according to ratings agencies, include a US$475m facility backing KKR’s buyout of garage door maker CHI Overhead Doors. A US$1.21bn credit facility supporting Warburg Pincus’ acquisition of security services company Universal Services of America also has relatively high leverage levels. TEST ANXIETY Regulators will shortly reveal the results of the latest annual Shared National Credit (SNC) examination of bank loan commitments. The SNC review process will step up to a biannual report next year. On a June 30 call tied to the OCC’s semi-annual risk perspective, Darrin Benhart, deputy comptroller for supervision risk management, said “we have seen some recent market data that has shown some stabilization from the previous increasing trends, for example in debt multiples, and we see that as encouraging.” As banks increasingly heed regulators and largely avoid syndicating highly leveraged deals, investor demand remains strong for loans for large companies, particularly those with good track records of using cash streams to repay debt, bankers and investors said. Buyouts are currently much smaller and typically use far less leverage than pre-crisis deals. “In 2006-2007, you had US$30bn-US$40bn LBOs getting done,” said one investor. “You don’t even have US$10bn LBOs getting done this year.” Buyout loans in 2007 were often leveraged at 7 to 9 times Ebitda, and some were set at 10 times or more, investors said. With total leverage on new loans stabilizing under regulatory scrutiny, market attention is turning to banks’ portfolios of existing loans from troubled energy sector companies. The SNC review later this fall could detail the ramifications of the steep price slump in oil. In June, the OCC said exposure to the oil and gas industries was one of several risk factors high on its radar. “The oil price decline does not represent a systemic supervisory concern from direct exposure at this time, but the OCC is monitoring the effects,” the regulator said. Fallout from potential debt defaults for energy companies will be greater in the high-yield bond market, which has about triple the exposure that loans have to the sector, analysts and investors said. “In the last cycle, the credit excess in the high-yield and leveraged loan markets was really the LBOs that were getting done,” the investor said. “This cycle you worry that maybe ground zero will be the high-yield bond market as opposed to leveraged loans.” (Reporting By Lynn Adler; Editing by Tessa Walsh and Leela Parker Deo)